Impact Investing: Benefitting Society Through Fixed Income

For many investors, the decision to invest a significant portion of their assets in an impact or environmental, social and governance (ESG) strategy is not a choice they make overnight.

It is something they think long and hard about. Deciding you want to have a positive, measurable impact on the world through your investments is a conclusion a person often comes to after some serious soul-searching. And when an investor goes to their registered investment advisor (RIA) or Private Bank in search of a solution, we have found that they are typically looking for three things:

A narrative that connects the investment to the causes they care about.

Reasonable fees.

A realistic path toward strong returns over the long term.

Here at OppenheimerFunds, our team at SNW Asset Management focuses on building and managing high-quality fixed income portfolios in a low-cost, customizable and tax-efficient way.

As part of this effort, they have developed four impact investing strategies, spearheaded by Glen Yelton, the ESG & Impact Analyst on SNW’s municipal bond team. They include a general impact strategy, which allocates to any available qualified investment opportunity with impact potential, as well as strategies devoted to education, gender equality and environmental issues.

We recently spoke with Glen about where he is seeing growth and client demand within the fixed income impact space, the ongoing challenges he faces in gathering quality data, and some of the differences between equities and fixed income when it comes to sustainable investing.

Here are some highlights from our conversation.

Ned Dane: SNW runs four different impact investing strategies. Is there a gravitational pull among investors toward some of these strategies over others?

Glen Yelton, ESG & Impact Analyst, SNW Muni Bond Team: The general impact option continues to be the most prominent. It takes an undifferentiated approach to ESG and impact outcomes. The environmental strategy has seen significant growth in 2017, while gender equity and education have remained flat. The gender equity one, in particular – we are currently reaching out to our clients and RIAs for feedback.

Dane: That one is going to lean more towards corporates, right, since you’re looking at gender equity in the C-suite as well as company boards? Is that essentially the primary driver there?

Yelton: It is on the corporate side. With muni bonds – and even agency bonds – we look at the composition of senior leadership that’s directly employed by the municipality, along with elected leadership, if it’s relevant ̶ for example, the board of commissioners in a town.

Additionally, we will look at the recipients of the program financing. For housing finance agencies, as an example, a significant number of housing units financed are for single-parent households. That fits within an investment theme tied to single parents who are leading households alone, typically women. This theme will be included in the gender equity focus as well.

But the key here is that the data is hard to find. It’s a really laborious process and we’re working hard to develop the next generation of metrics. That is one of the reasons we are engaging with our clients on building a next iteration of the gender approach.

Straut: Tell us about the data-gathering process. How do you gather data and then use it to determine which investments you ultimately make?

Yelton: The start of this process is basically reorganizing the universe of entities we invest in.We discard the traditional industry categories or sectors that portfolio managers typically use, and thematically group issuers on the basis of what their purpose is – why they exist.

This means you ask questions like, “Why do school systems exist? Why do towns exist? Why do companies exist?” Once you determine your categories and articulate an entity’s reason for existence, you can then assess the potential positive social and environmental impact for that category of issuers. We have over two dozen categories of issuers that we cover – each of which has an independent theory of impact based on that set of issuers’ basic reason for existence. That theory of impact in the first stages of the process is then coupled with a set of ideal data points.

Straut: Can you elaborate on the types of data points you focus on?

Yelton: The data points that would ideally be able to measure the actual positive, social, or environmental outcomes of that category of issuer. Take K-12 school systems for example. Within that category, we started with a couple hundred data points that we wanted to find. The data there is not hard to find – there is a lot that is publicly disclosed to varying degrees. And you find a lot of things you want to measure. But some things you can’t find. For instance, one of the things we would like to measure is the ethnic diversity of instructors compared to the student body. It would be great to see if students are being taught by people they can relate to. The data doesn’t exist on a widespread basis, so our rule of thumb is to limit the data points that we use for our evaluation to those data points that we can find an actionable level of data on. This normally means that at least 40% of the issuers in our sample set have to have disclosed data.

Dane: Let’s talk green bonds for a moment. Over the last few years many big banks have been raising large pools of capital as they look to deploy lending in this space. Is there momentum here?

Yelton: Green bond issuance continues to increase – and 2017 is already a record year. We beat the total issuance from 2016 by the end of last quarter. We’re seeing more participation in the market by municipalities, and there’s continued momentum from corporates as well. Apple floated a $1 billion, 10-year green bond note on the market earlier this year. But if you look at the overall bond supply, not just green bonds, we’re not seeing any increase in the amount of total debt that’s coming to market. In fact, total muni bond issuance is lagging 2016 by close to 20%.1 Through Q3 of this year the U.S. labelled green bond market was running about $11 billion – depending on whose numbers you use, roughly half of which were issued by munis.2 On the corporate side, Apple was one of the big plays although Brookfield and Kaiser Permanente also have come to market with green bonds.

The challenge here is that we’re seeing debt that would have come to market already, and putting the green label on it so that it can stand out and attract the attention of investors who are concerned about ESG and impact issues. The idea behind the green bond label was that new projects would come to market using this and get financed and that’s just not really happening. There are some worthwhile opportunities being financed, but they would have happened anyway.

Dane: How have recent political developments in the U.S., most notably, the decision to withdraw from the Paris Climate Agreement, affected this market?

Yelton: There’s been quite a bit of growth since the 2016 election. We’ve seen that many investors are looking to activate their funds on environmental issues because they believe a real threat is looming. Despite the U.S. withdrawal from the Paris Agreement, states and cities have been vocal in their support for climate change-related projects. I think we will see a good slate of those projects come to market next year. We have already seen some of that in the global green market. CBI reported recently that the total outstanding climate bond amount was roughly $895 billion, up over $200 billion since 2016.3 Of course that counts both labeled and unlabeled green bonds with the labeled part of the outstanding debt only being around $220 billion – but that’s a whole lot more than there was just two years ago.

Straut: What types of investors are driving demand for impact and ESG products? Where’s the demand coming from – institutional, high-net-worth, retail?

Yelton: The SNW client base is a mix of all three. We have existing direct retail clients, institutional foundation clients and the RIA side of the house. It’s sort of across all sleeves. Our growth in this over the past year, during which we have more than doubled the AUM in this strategy, has been driven by the RIA channel mainly, with a foundation or two adding to the mix.

And that’s the upside, right? Maybe 5% or 10% of the retail market is in these types of strategies right now, versus the 20% plus that you see in the institutional space. Those end clients that work with the RIAs and family offices that we support are asking for these options more and more. What we do at SNW is only part of the answer. There is much more to come ̶ and that makes me pretty excited.

This is the latest installment in our seriesabout issues facing high-net-worth families and their advisors. To learn more about what HNW Millennials want from their advisor, view our Coming of Age study.

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